The Clouded View: On Gold

There are enough gold newsletters to fill a bullion vault, so why bother writing about it? Well, ever since a brief stint at a commodity broker, it has been one of my favourite markets. And since starting to write this blog have come back to it; initially as an important factor in the movements of the FTSE but recently as a market in its own right. It has more potential for medium-term trends and is a truly global market (unlike the stock indices).

As an example of the current state of technical analysis on gold, here is a recent article from Reuters. As usual, headlines seem designed to deceive, as the article seems to champion a rally back up to $1,000 an ounce. However, a closer read shows that there are numerous dissenting voices, usually citing weak global demand. Now, I don't run any econometric models, I don't have a stash of gold bought at $900 to flog, and I don't have any private clients who hang on my every word. I have no vested interest in the future price of gold. I do have a vested interest in trying to read the charts correctly and finding signals for profitable trades. Whether you are day trading, spread betting or hoarding little gold bars, it is important to get the timing right. The article quotes Goldman Sachs as lowering their 3-month projection to $860 (which is no great insight as that's where we are now) and their 12-month projection down to $800. To give them a little credit, in January 2008 the same broker predicted gold at $1,000, although at that point (in the middle of January) it was already at $900. They also predicted an average price for 2008 of $915. I know, predictions change in the light of changing markets. But in November 2007 the same Goldman Sachs advised clients to sell gold, contradicting a research note from one of their own analysts. This didn't start off as an inquiry into broker recommendations, but it just shows you how wrong (and how self-interested) they can be. For all their big offices, expensive suits and computer power, they are no better than a laptop, charts and a brain.

So what do the charts tell me? The only gold charts I have found of any use are the daily and the 1-hour time periods. As of today gold is trading at $870, a whisker above its 200-day moving average. This 200DMA has held solid since the recent gold rally starting in August 2007. On the 1st and 2nd May 2008 it tested it then rose to $935, only to fall back to re-test it now. The 200DMA sits at $866. The 100DMA is at $897. The last 3 weeks have seen the gold price squeezed between these two levels. This suggests to me a break-out coming pretty soon. The pressure at the moment is undoubtedly downwards, with this 200DMA being the last critical support. The market has already tested $845 on 2 May, which was also the November 2007 high. A break down through this and we are looking at $775 as the next support, this being the low during Nov-Dec 2007. But why the doom and gloom? Surely gold will leap up to $1000 again on the back of rising inflation, bullish oil prices and falling stockmarkets? Well, I am a poor lonely trader without the resources to simulate my own global economy and, given the results of those who do, I feel better just looking at the numbers. All the pushes and pulls on the gold price are reflected in... the gold price. So why look elsewhere? So, to complete my down-side view, the last two days have seen the gold price dip below $866 but on both days has closed above. There may be a pocket of resistance at $850 but below this it's a long way down.

What about the up-side? Well, before we can call a new rally it really needs to get out of this trough. Even going up to the 100DMA at $897 won't be enough, but would obviously be a start. The daily chart shows a string of lower highs, which is hardly bullish, so we really need to see one higher high at $910 and then $935 and then $950. Whatever happens, it looks to me like it will happen within the next month. So how do we trade this?

The daily chart is good for trends and support/resistance levels but doesn't inspire me with great-looking trading signals. For these I switch to the 1-hour chart - but keeping in mind what we've learnt from the daily chart. A look at the 1-hour chart shows almost an identical image for the last 6 days as for the last 4 months - a fractal if ever I saw one! Pure coincidence, but proves why different timescales (different magnifications) can reveal interesting information. One crucial difference, however, is that the 1-hour chart seems to give pretty good trading signals. Over the last week we have seen lower highs and lower lows and have now just come off $860 with a buy signal at about $868. These are short-term signals that can last from 6 to 48 hours and should be taken within the context of the daily trend. The range between the 200DMA and 100DMA is just $30, so I don't expect it to stay here for very long. Using the combined SAR and MACD indicators has yielded some very good trades recently. What the 1-hour chart allows you to do is to catch the new trend before it shows up on the daily chart. At the moment it has signalled a weak buy, but I don't like holding on to trades over the weekend. The markets may be asleep but the world certainly isn't. A move down to $865 will probably trigger a sell signal. As always, I don't make predictions. You can look at the same charts as I do and make your own conclusions. All I really want to do is look at markets with trading signals that work.

One brief note on trading gold on spread betting platforms. As usual, will take IG Index for my example. There are not too many instruments available for gold, which I find slightly surprising. The only binary spread bet available is a simple up/down bet. There are no futures options available, merely daily options - which I generally find poorly priced. Perhaps more importantly, gold is one of the few truly global markets, traded round the clock, and as can be seen from the 1-hour trading signals it is totally ignorant of human sleeping hours. This means many trades will need to be left open overnight and using the daily options one will have to close one option then open a new one, with loss of the spread. As I have written elsewhere, the bungee bets are identical to the daily options, so no more need be said about them. So we are just left with a pure play on either the daily spot price or futures price. The minimum stop on IG is $2 but that seems overly tight and I prefer a $4 to $5 stop loss.

Enjoy the ride.